This is 'the end of eurozone austerity'

Europe
fans dressed in the colors of the European flag pose for the
camera as they attend the second day of the Ryder Cup golf
tournament at Gleneagles, Scotland, Saturday, Sept. 27,
2014.(AP Photo/Peter
Morrison)

Europe's strict austerity is over.

At least, that's what HSBC economist Fabio Balboni is saying in
his latest note. A bundle of factors have come together, and the
policy squeeze on European economies is basically over.

That doesn't mean everything's rosy — many countries still have
very high unemployment and the bloc's GDP as a whole is still
below where it was in 2008, marking a 7-year depression. But it
does mean that Europe's politicians and central bankers are no
longer holding their economies back.

There are two pincers in the attack on austerity. Both
fiscal and monetary policy are getting looser, each of which
should encourage more long-awaited growth in the eurozone.

After years of waiting, and despite some
recent disappointments, the European Central Bank is starting
to look a lot more like other advanced monetary authorities. The
bloc has a quantitative easing (QE) programme in place, and it's
clearly happy to keep cutting interest rates — even into negative
territory — while the economy grows modestly.

That's meant to drive interest rates down both for the private
sector, and for governments looking to borrow. During 2010-2012,
eurozone borrowing costs soared as markets panicked that the
currency union would break apart.

But the explosion in bond yields during the euro crisis has
been practically eradicated. The spread between say, German
and Italian bonds (the difference in what they yield) hasn't
collapsed back to quite pre-crisis levels, but it's down by more
than 3 percentage points since the beginning of the euro crisis.

And as a result, interest payments are shrinking:

HSBC

The second pincer is fiscal policy, which is easing up
considerably. Between 2011 and mid-2013, public spending
growth was completely flat in the eurozone. In some countries,
like Italy and Spain, it was negative even in the middle of
recessions.

That's changing now — public spending is on its way up in the
eurozone as a whole, and the increase should peak above 2% during
2016:

HSBC

Though it might seem strange given that public spending is
rising, because of quantitative easing, Europe's debt dynamics
are actually improving. The note explains how:

From a bond markets perspective, QE drives a wedge between
nominal growth and yields, keeping yields artificially low
compared to what growth and inflation expectations might imply.
So the combination of fiscal deficits and nominal growth needed
by countries to stabilise their debt-to-GDP ratios now looks more
favourable. Indeed, being able to borrow at record-low interest
rates is reducing the so-called ‘snowball effect’ (ie. the
difference between the effective interest rate that countries pay
on their debt, and the nominal growth), which is the main driver
of debt dynamics. This means that – even if we still expect the
debt-to-GDP ratios to increase next year for Italy, France and
Spain – the primary surpluses needed to stabilise those ratios
are also lower.

It's not all good news — Balboni discusses the pitfalls of the
end to austerity too. For starters, if the fiscal boost is used
for day-to-day "current spending" rather than investment, the
boost to growth isn't likely to last. The eurozone's structural
challenges can't be overcome by stimulus and the years of
austerity may have done semi-permanent damage to the ability to
collect taxes in some countries.

All the same, it's a major step change for Europe after years of
austerity — fiscal and monetary policies are finally aligning in
a way that gives the bloc some chance of recovery, even if it
isn't secured yet.